Arbitration Continues to Be a Hot Topic Before the Supreme Court

Interpretation of the Federal Arbitration Act (FAA) has been a frequent issue considered by the U.S. Supreme Court this year. On October 29, 2018, the Supreme Court heard oral argument in Lamps Plus, Inc. v. Varela, No. 17-988. In Lamps Plus, the Court considered whether the FAA precludes a state-law interpretation of an arbitration agreement that would authorize class arbitration based solely on general language commonly used in arbitration agreements. The Court’s analysis in answering this question will necessarily implicate its prior ruling in a 2010 decision, Stolt-Nielsen, S.A. v. AnimalFeeds International Corp., wherein the Court held that in light of the fundamental differences between class and bilateral (one-on-one) arbitration, class arbitration cannot be required unless there is a specific contractual provision in the agreement that would support the conclusion that the parties agreed to arbitrate as a class. As a result of the decision in Stol-Nielsent, courts will not presume that an agreement to arbitrate exists based upon the fact that the agreement in question is silent on the issue of class arbitration or based upon the mere fact that the parties agreed to arbitrate at all.

Despite this precedent, a divided panel of the U.S. Court of Appeals for the Ninth Circuit, utilizing state contract construction canons, determined that the parties in the Lamps Plus dispute had agreed to class arbitration based upon the standard language in their agreement, which stated that “arbitration shall be in lieu of any and all lawsuits or other civil proceedings,” and which provided a description of the substantive claims subject to arbitration. The Ninth Circuit’s decision contradicts decisions by a multitude of other appellate courts, i.e., the Third, Fifth, Sixth, Seventh, and Eighth Circuits, all of which have concluded that the FAA preempts state contract law in determining this issue because the FAA requires affirmative evidence of consent as a matter of federal law.

By way of factual background, this case arose out of a class-action lawsuit initiated by Frank Varela against his employer, Lamps Plus, which had inadvertently released Varela’s personally identifiable information (PII) and that of other employees in connection with a third-party phishing scam. In response to Varela’s lawsuit filed in the U.S. District Court for the Central District of California, Lamps Plus sought to compel arbitration based upon the provisions of Varela’s employment agreement, which contained no provisions providing for class-action arbitration. The district court compelled class arbitration, finding that the mere absence of a reference to “class action” in the agreement was not alone determinative, but rather federal law required an absence of agreement on the issue.

Lamps Plus appealed, arguing that the FAA requires a specific contractual basis showing the parties’ intent to arbitrate class actions and contending that the district court could not read into the contract an agreement to class arbitration based on language relating to personal disputes. Further, Lamps Plus argued that even if the contract was ambiguous as to intent, U.S. Supreme Court precedent supported a resolution of such ambiguity in favor of arbitration. The Ninth Circuit subsequently upheld in part the district court’s ruling. Lamps Plus then filed a petition for certiorari.

Varela has opposed the appeal, contending that in the first instance, the Supreme Court lacks jurisdiction to hear the appeal. With respect to the merits, Varela argues that California contract law interpretive principles used by the district court were properly applied and, thus, should not be overturned. Although Varela agrees that interpreting private contracts is normally a question of state law and that the FAA requires enforcing agreements to arbitrate through that state law, Varela focuses on certain standards of contract interpretation. The Ninth Circuit recognized a reasonable layperson standard for interpreting the contracts. Varela thus points to specific language in the underlying contract that expressly waives Varela’s right “to file a lawsuit or other civil action or proceeding,” and argues that “proceeding” could reasonably be interpreted to include class actions according to California’s standard.

Lamps Plus contends that there are no jurisdictional issues because the dispute arises out of an appealable order dismissing Varela’s claims. Lamps Plus asserts that the district court’s decision to compel class arbitration was an adverse decision that is subject to appeal, and on matters of appellate jurisdiction, the Court must focus on the underlying substance of the dispute rather than the form. In response, Varela argued that not only did the circuit court lack jurisdiction over the appeal, but Lamps Plus lacked standing to even seek an appeal. According to Varela, section 16(b)(2) of the FAA explicitly prohibits appeals directly from interlocutory orders directing arbitration to proceed. Further, Varela contends that the determination by the Court granted Lamps Plus its desired relief—a dismissal of the individual claims brought by Varela. That the Court determined to direct class arbitration is not a decision adverse to Lamps Plus, even though it may not like the result.

Oral argument on this appeal seemed to indicate a potential split among the justices. Justice Kagan focused in particular on the language of the arbitration agreement, and her questions suggested that she believes the language of the agreement is broad enough to encompass class arbitration. Similarly, Justice Sotomayor seemed to recognize that state law controls the interpretation of arbitration agreements and did not seem inclined to embrace the “clear and unmistakable” standard put forth by Lamps Plus. However, certain of the other justices questioned Varela as to whether arbitration was the appropriate forum for resolving class claims, including a specific concern that allowing class actions to be handled in this manner could open the door for potential class members to be bound by an arbitration award even though they never agreed to arbitration in the underlying agreement.

This is the third issue involving the FAA before the Supreme Court in the past year. Looking at the one decision that has already issued may provide some guidance to where the Court could be headed when a decision on Lamps Plus issues next term. Earlier this year, the Court decided Epic Systems Inc. v. Lewis, in which the Court emphasized that Congress, through the FAA, was instructing courts to enforce arbitration agreements as written. In light of Lewis, and keeping in mind prior precedent under Stolt-Nielsen, it is possible that the Supreme Court may reaffirm the principles of Stolt-Nielsen and hold that class arbitration cannot be forced upon a party in the absence of specific and unambiguous contractual language authorizing class arbitration. Whatever the result, business lawyers must keep these recent decisions in mind when they draft arbitration agreements and contemplate the waiver of class arbitration.